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January 13, 2008

Economist's View - 4 new articles

The "modest success" of Ron Paul prompts Michael Kinsley to examine the practicality of libertarian ideas and the value of the questions they ask. Here's part of his longer essay:

Libertarians deserve a listen, by Michael Kinsley, Commentary, LA Times: ...The libertarian perspective is useful and undervalued. Why does the government pay farmers not to grow food? Why are medications for fatal diseases sometimes held off the market in case they aren't safe? (Compared to death?) Legislators and regulators should ask themselves far more often than they do whether their activities expand freedom or contract it.

Furthermore, democracy and majority rule are no answers. Tyranny of the majority is a constant danger. How would you like a law requiring people with odd Social Security numbers to give $1,000 to people with even Social Security numbers? To libertarians, much of what government does is essentially just that.

So what is wrong with the libertarian case for extremely limited government? Economics 101 teaches some of the basic justifications for government interference in the economy. Some things, such as the cost of national defense, are "public goods." ...

Then there are "externalities"... Pollution is the classic example. Without government involvement ... we will produce more pollution than most of us want. There are "market-oriented" solutions to this problem, but there is a difference -- often forgotten, especially by Republicans -- between using market forces and leaving something to the market. The point of principle is whether the government should intervene at all. How it intervenes is purely pragmatic.

Libertarians have a fondness for complex arrangements to make markets work in situations where the textbooks say they can't. Hey, let's issue stamps, y'see, and use the revenue to form a corporation that sells stock to buy military equipment, then the government leases the equipment and the stockholders vote on whether to use it ... and so on. The point becomes proving a point, not economic or government efficiency. ...

Sometimes libertarians end up reinventing the wheel. My favorite example is an article I read years ago advocating privatization of highways. This is a classic libertarian fantasy: government auctions off the land, private enterprise pays for construction and maintenance, tolls cover the cost, competing routes keep it all efficient.

And what about, uh, intersections? Well, markets would recognize that it is more efficient for one company to own the intersections, but it would have an incentive to strike the right balance between customers on each highway. And stoplights? Ultimately, the author had worked his way up to a giant monopoly that would build, own and maintain all the roads and charge an annual fee to people who wanted to use them. None dare call it government. ...

Extreme libertarians believe [government-mandated income redistribution] is immoral or even unconstitutional, and even moderate libertarians disapprove of social welfare programs as an infringement on the freedom of taxpayers. But freedom is only one of the two core values our nation was built on. The other is equality. Defining equality, libertarians tend to take a narrow view, believing that it means only political equality with no financial aspects. Defining freedom, by contrast, they take a broad view, and see a violation in every nickel a citizen is forced to spend.

Libertarians ask: By what justification does the government concern itself with inequality, financial or otherwise? They are nearly alone in asking this question. Even conservatives claim a great concern for equality of opportunity, while opposing equality of result. ... But nothing ... is obvious to libertarians. They force us to think it all through from scratch. Good for them.

I also believe things are best left to the market, except for those cases when equity is a predominate consideration (e.g. we choose to allocate access to national parks with, for the most part, non-price mechanisms so that people have a somewhat equal chance of visiting places with special geographic features), or when market failures are substantial enough to overcome any fear of countervailing government inefficiency.

I also think this is worth repeating, "there is a difference -- often forgotten, especially by Republicans -- between using market forces and leaving something to the market. The point of principle is whether the government should intervene at all. How it intervenes is purely pragmatic." To take this a step further, one thing we have learned is that market-based regulation that creates the incentives needed for markets to perform well should be preferred to command solutions that attempt to impose outcomes through rules and regulations constructed by regulatory bodies, however well-intentioned they might be. We can use market forces to our advantage rather than hoping the market corrects itself. Market-based regulatory solutions won't always be available, and we should only intervene when there are obvious problems in need of attention, but when they are available the good questions that libertarians force us to confront should not stand in the way of our using these regulatory tools to correct glaring market deficiencies.

If Moody's, the credit rating agency, can't get this analysis right, how can it possibly handle the evaluation of complex financial instruments? Or is it the case, as Dean Baker wonders below as he points out the flaws in the analysis, that analytical accuracy and objectivity are being sacrificed in the name of politics?:

The warning over the future of the triple-A rating – granted to US government debt since it was first assessed in 1917 – reflects growing concerns over the country's ability to retain its financial and economic supremacy. ...

Most analysts expect future governments to deal with the costs of healthcare and social security and there is no reflection of any long-term concern about the US financial health in the value of its debt. ...

Unlike Moody's previous assessment of US government debt in 2005, Thursday's report specifically links rises in healthcare and social security spending to the credit rating.

"The combination of the medical programmes and social security is the most important threat to the triple-A rating over the long term," it said.

Steven Hess, Moody's lead analyst for the US, told the Financial Times that in order to protect the country's top rating, future administrations would have to rein in healthcare and social security costs.

"If no policy changes are made, in 10 years from now we would have to look very seriously at whether the US is still a triple-A credit," he said. ...

Moody's did once threaten to cut the rating of some of the US Treasury's debt when Congress refused to pass the president's budget in the mid-1990s.

Dean Baker has the response:

Does Politics Affect Moody's Ratings?, by Dean Baker: That is the question that the Financial Times reporter should have asked when Moody's apparently threatened to downgrade U.S. debt within a decade if the country does not reduce the projected growth of Medicare and Social Security.

This threat is very odd for several reasons. First, it is not clear why Moody's would be concerned about the composition of U.S. government spending. Lenders have reason to be concerned about the overall budget balance, but they have no obvious interest in the composition of spending. The United States recently increased its defense spending by more than a percentage point of GDP to cover the cost of the wars in Iraq and Afghanistan. If the government reduced defense spending to pre-war levels, as an alternative to cutting the cost of Social Security and Medicare, it is difficult to see why lenders should care.

It is also odd that Moody's would single out Social Security. Its cost is not rising at an especially rapid rate, in a decade its cost will have just risen back to its 1983 level measured as a share of GDP. Presumably, bond holders don't have any particular reason to object to spending on Social Security, so it is difficult to see why a bond rating agency should.

In the same vein, it is also possible to make up projected budget shortfalls with tax increases. Bondholders presumably care about borrowers ability to pay off their debts, ... tax rates in the U.S. would still be far below the OECD average even if they were raised by several percentage points.

The Financial Times reporter (and other reporters) should have asked why one of the world's leading bond rating agencies would make such an unusual intervention into U.S. domestic politics. Such detailed policy prescriptions for the United States are certainly rare, if not unprecedented.

In this context, it is worth noting that Moody's could face legal difficulties due to its recent rating practices. It gave top credit ratings to tens of billions of dollars of securities that were partially backed by very risky subprime mortgages. Now that these bonds are being written off at a very rapid pace, there may be some legal consequences for Moody's. Moody's potential legal problems should have been mentioned in the context of this intervention into U.S. politics. ...